From the Virginia Society of Certified Public Accountants - Presented
by Dean Knepper, CPA, CFP®

UNDERSTANDING THE CHILD AND DEPENDENT CARE TAX CREDIT

(January 27, 2006) — Is the cost of child or dependent care taking a
big chunk out of your employment income? If so, you’ll want to read what
the Virginia Society of CPAs has to say about how the child and dependent care
tax credit can help ease the financial burden.

What is it?

The child and dependent care credit benefits parents and caregivers who, in
order to work or look for work, pay someone to provide care for a child under
age 13 whom you may claim as a dependent or for a spouse or dependent of any
age who is physically or mentally incapable of self-care. Most types of care
qualify for the credit, including care provided at your home or the home of
the caregiver, or at a child day care center, nursery school or day camp.

Who qualifies?

To qualify for the dependent care tax credit, you — and your spouse if
you are married — must be employed full- or part-time or be seeking work.
The only exception applies when one spouse is either a full-time student or
is physically or mentally incapable of self-care. You must have paid more than
half the cost of maintaining the home in which you and the child or dependent
live. The payments for care cannot be made to your spouse or someone you can
claim as a dependent on your tax return or to your child who is under age 19.

How much?

The child and dependent care tax credit is a percentage, based on your adjusted
gross income (AGI), of the amount of work-related child care expenses you paid
during the year. When calculating the dependent care tax credit, you may use
up to $3,000 of dependent care expenses if you have one qualifying dependent
and up to $6,000 if you have two or more dependents.

The credit can range from 20 to 35 percent of qualifying expenses paid during
the year, with the exact percentage based on your adjusted gross income (AGI).
The AGI amount at which the credit percentage begins to decrease is $15,000.
Generally, the higher your dependent care expenses and the lower your income,
the higher the tax credit.

Which tax forms?

You may take the dependent care credit even if you don’t itemize your
deductions, but you cannot claim the dependent care credit if you are married
filing separately. To claim the credit, you must file Form

1040 or Form 1040A. Taxpayers who file Form 1040 must complete and attach Form
2441. Form 1040A filers must complete Schedule 2. You cannot use Form 1040EZ
to claim the dependent care credit.

On your tax form, you must include the name and Social Security Number of your
child care provider or the taxpayer identification number of the child care
center. Keep in mind that if you pay someone to come to your home to provide
the care, you may be a household employer, which could require you to pay employment
taxes.

What about the fine print?

Expenses reimbursed through an employer-sponsored dependent care flexible spending
account cannot be claimed for the child and dependent care credit. For example,
if you or your spouse use a flexible spending account at work to pay for $4,000
of the $6,000 you pay to care for your two children, you can only count the
non-reimbursed amount of $2,000 toward the dependent care tax credit.

The child care credit is not refundable. This means that the tax credit may
reduce your regular tax liability to zero, but not below zero, where a refund
would result.

More help?

CPAs say that tax credits are a great way to save on taxes because they reduce
your tax bill dollar for dollar. That means a $1,000 tax credit reduces your
taxes by the full $1,000, as opposed to a $1,000 tax deduction, which in the
30 percent tax bracket, would save you $300. If you need additional advice,
contact a CPA.

The Virginia Society of CPAs is the leading professional association
dedicated to enhancing the success of all CPAs and their profession by communicating
information and vision, promoting professionalism, and advocating members’
interests. Founded in 1909, the Society has nearly 8,000 members who work
in public accounting, industry, government and education. This Money Management
column and other financial news articles can be found in the Press Room on
the VSCPA Web site at www.vscpa.com.